Finance 380 Exam 2

One of the flaws of the payback period method is that cash flows after the cutoff date are ___.

they are not considered in the analysis

True or false: A project with non-conventional cash flows will produce two or more IRRs.

true

True or false: The IRR is easy to use because you only need to know the appropriate discount rate.

FALSE

True or false: Daily stock prices can only be found by looking up the stock in newspapers.

Fasle

When voting for the board of directors, the number of votes a shareholder is entitled to is generally determined as follows:

One vote per share held

Which of the following are rights of common stock holders?

The right to vote on matters of importance. The right to share proportionally in any common dividends paid. The right to share proportionally in any residual value in the event of liquidation.

The NYSE differs from the NASDAQ primarily because the NYSE has:

a physical location a face-to-face auction market

According to Graham and Harvey's 1999 survey of 392 CFOs (published in 2001), which of the following two capital budgeting methods are widely used by firms in the US and Canada?

initial rate of return net present value

Which of the following present problems when using the IRR method?

non-convential cash flows mutually exclusive projects

The fundamental business of the New York Stock Exchange is to attract _______.

order flow

The ______ method evaluates a project by determining the time needed to recoup the initial investment.

payback

The __________ is best suited for decisions on relatively small, minor projects while ______ is more appropriate for large complex projects.

payback period NPV

The two most important stock markets in the U.S. are the New York Stock Exchange and ______.

NASDAQ

What is the formula for the present value of a growing perpetuity where C1 is the net cash flow, R is the required return and g is the growth rate?

P = C1/(R-g)

Match the following terms relating to stock valuation. P1 D1 R P0 D0

Price in one year, Next expected Dividend, Discount rate, Price today, Dividend just paid

Erosion will ______ the sales of existing products

Reduce

Which of the following ratios might be used to estimate the value of a stock?

The Price/Sales ratio The Price/Earnings ratio

accept or reject? The payback period rule ______ a project if it has a payback period that is less than or equal to a particular cutoff date.

accept

Accept or reject? A project should be __________ if its NPV is greater than zero.

accepted

Investment in net working capital arises when ___.

cash is kept for unexpected expenditures credit sales are made inventory is purchased

Interest expenses incurred on debt financing are ______ when computing cash flows from a project.

ignored

The stand-alone principle assumes that evaluation of a project may be based on the project's ________________ cash flows.

incremental

The difference between a firm's cash flows with a project versus without the project is called ________________.

incremental cash flows

The profitability index (PI) is calculated by dividing the present value of an investment's future cash flows by its _____ _____.

initial cost

In capital budgeting, ______ determines the dollar value of a project to the company.

net present value

_______ is a measure of how much value is created or added by undertaking an investment.

net present value

Preferred stock has preference over common stock in the:

payment of dividends distribution of corporate assets

The NPV is ______ if the required return is less than the IRR, and it is ______ if the required return is greater than the IRR.

positive negative

The trading of existing shares occurs in the ______ market.

secondary

New York Stock Exchange Designated Market Makers (DMMs) were formerly called ________ .

specialists

According to the _________ principle, once the incremental cash flows from a project have been identified, the project can be viewed as a "minifirm."

stand alone

Which of the following are methods of calculating the MIRR of a project?

the reinvestment approach the discounting approach the combination approach

For investors in the stock market, dividends from stocks are fixed and guaranteed, while capital gains are variable and not guaranteed.

False

Which of the following are reasons that make valuing a share of stock more difficult than valuing a bond?

Stock has no set maturity, the required rate of return is unobservable, dividends are unknown and uncertain

True or false: According to Graham and Harvey's 1999 survey of 392 CFOs (published in 2001), the internal rate of return and the NPV are the two most popular capital budgeting methods used by firms in the US and Canada.

True

One of the most important steps in estimating cash flow is to determine the _________ cash flows.

relevant

Opportunity costs are classified as ____ costs in project analysis.

relevant

A person who brings buyers and sellers together is called a(n) ______.

Broker

Someone who maintains an inventory of stocks and buys and sells those stocks is known as a ____.

dealer

All else constant, the dividend yield will increase if the stock price ____.

decreases

Incremental cash flows come about as a(n) ________ consequence of taking a project under consideration.

direct

True or false: Common stock has a set maturity.

False

The Combination MIRR method is used by the Excel MIRR function and uses which of the following?

A reinvestment rate for compounding A financing rate for discounting Discounting all cash outflows to time 0 Compounding cash inflows to the end of the project

Which of the following are cash flows to investors in stocks?

Capital gains dividends

In the dividend growth model, the expected return for investors comes from which two sources?

Dividend Yield Growth Rate (R = Div/P0+g)

Which of the following is a disadvantage of the payback period rule?

Requires an arbitrary cutoff point

If unpaid preferred dividends must be "caught up" before any common dividends can be paid, they are called _________ dividends.

cumulative

In general, NPV is ___.

positive for discount rates below the IRR negative for discount rates above the IRR equal to zero when the discount rate equals the IRR

The first step in estimating cash flow is to determine the _________ cash flows.

relevant

A benchmark PE ratio can be determined using:

the PEs of similar companies a company's own historical PEs

The dividend yield is determined by dividing the expected dividend (D1) by:

the current price (P0)

Which of the following are weaknesses of the payback method?

the cutoff date is arbitrary- time value of money principles are ignored- cash flows received after the payback period are ignored

True or false: When calculating NPV, the present value of the nth cash flow is found by dividing the nth cash flow by 1 plus the discount rate raised to the nth power.

true

Which of the following is an example of a sunk cost?

project consultation fee

The present value of the future cash inflows are divided by the ______ to calculate the profitability index.

initial investment

The basic NPV investment rule is:

-accept a project if the NPV is greater than zero -reject a project if its NPV is less than zero -if the NPV is equal to zero, acceptance or rejection of the project is a matter of indifference

Which of the following are reasons why IRR continues to be used in practice?

1. The IRR of a proposal can be calculated without knowing the appropriate discount rate. 2. It is easier to communicate information about a proposal with an IRR. 3. Businesspeople prefer to talk about rates of return.

What are the advantages of the payback period method for management?

1. the payback period method is easy to use 2. it allows lower level managers to make small decisions effectively 3. the payback period method is ideal for minor projects

According to the average accounting return rule, a project is acceptable if its average accounting return exceeds:

a target average accounting return

Based on the average accounting return rule, a project is _____ if its average accounting return exceeds a target average accounting return.

acceptable

True or false: The payback period takes into consideration the time value of money.

false

True or false: The profitability index (PI) is calculated by dividing the present value of an investment's future cash flows by its future cost.

false

The value of a firm is derived using the firm's ______ rate and its _______ rate.

growth; discount

Sunk costs are costs that ____.

have already occurred and are not affected by accepting or rejecting a project